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Ameristar's New Strategy Pays Off

Focusing on profits over market share helps Ameristar's Q4.

A couple of quarters ago, Ameristar Casinos(NASDAQ:ASCA) shifted from maintaining its market share lead at any cost to simply maximizing profitability. At least in the short term, the new strategy seems to be a winner.

Despite a 16.1% drop in promotional spending, and an accompanying 2.7% decline in gross revenues, Ameristar managed to produce across-the-board record results during the fourth quarter. The company increased net revenues slightly to $244.1 million, while EBITDA climbed 6.4% to $66.1 million, and diluted EPS jumped 24% to $0.31, handily surpassing the $0.25 per share analyst estimate. Meanwhile, the company posted healthy improvements in operating and EBITDA margins at virtually every property.

The only property not to report higher margins was Ameristar Vicksburg, and for a very good reason: The results in last year's Q4 were inflated after the casinos along the Mississippi Gulf Coast to the south were wiped out by Hurricane Katrina. Most of those casinos have since returned to the market, bringing business levels in Vicksburg back down toward pre-Katrina levels. Still, Q4 results in Vicksburg surpassed pre-Katrina performance as well.

Perhaps most impressive is the performance of Ameristar Council Bluffs. You might recall that Harrah's Entertainment(NYSE:HET) introduced its rebranded, renovated, and expanded Horseshoe Council Bluffs this past March. The Horseshoe is the only land-based facility in the market, and with 100,000 square feet of gaming space, it's significantly larger than the riverboat Ameristar currently operates. Upon opening, the Horseshoe claimed Ameristar's long-term market-share lead. Even so, net revenue at Ameristar Council Bluffs in the fourth quarter was down only 3%, while the property managed a slight increase in EBITDA.

Not bad.

Missouri loss limit removal?The healthy quarterly results aren't the only reason for optimism. On the earnings conference call, Ameristar noted that a bill with bipartisan sponsorship was introduced in the Missouri Senate Thursday, calling for the removal of the $500 loss limit in exchange for a 1% increase in the gaming tax rate. The bill would also cap the number of casino licenses in the state to 13; if it's enacted without further changes, it would take at the end of August.

The removal of the loss limit should lead to a 20% increase in the state's gaming revenue. Naturally, as the highest-end player in both St. Louis and Kansas City, Ameristar stands to benefit the most from its repeal.

At present, the loss limit restricts patrons from buying in for more than $500 every two hours. It is meant to protect gamblers, but in reality, it's just another odd gaming law that only annoys patrons and limits the appeal of Missouri's casinos. (It's the only state with such a loss limit.) As a result, many high-stakes gamblers in the St. Louis area frequent the Casino Queen in East St. Louis -- on the Illinois side of the Mississippi River -- just so they can bet $400, $500, or even $1,000 per hand on blackjack. That's despite the fact that East St. Louis is the last place most people in the St. Louis area would want to be.

Removing the loss limit would bring these patrons to Missouri casinos, primarily to the benefit of Ameristar, Harrah's, and Pinnacle Entertainment(NYSE:PNK). It would also significantly improve the profile of St. Louis and Kansas City casinos as gaming destinations.

ExpansionAmeristar also mentioned on the call that its goal is to double EBITDA in the next three to five years. For reference, consolidated EBITDA was $265 million in 2006, up from $254 million in 2005. Interestingly, the company said that 50% of projected EBITDA growth would come from its existing properties, while 50% would come from acquisitions.

To project that $130 million in EBITDA will come from acquisitions in the next three to five years, the company must have something specific in mind. That EBITDA figure suggests about $400 million-$500 million in revenue -- suggesting either a couple of good-sized acquisitions, or one really big one. Moreover, Ameristar would want a property that currently produces cash flow, but can still be redeveloped and rebranded.

It just so happens that Harrah's -- which is being acquired by private equity firms Apollo Management and Texas Pacific Group -- has a host of assets that may or may not be up for sale. Assuming the buyout goes through, Harrah's will have a significant debt load that will both restrict development and hinder profitability. Harrah's could unload properties ripe for redevelopment, and get more value in a sale than it would get by continuing to operate out-of-date or underdeveloped properties. In turn, it could use the cash to pay down debt.

While the cheapest way for Ameristar to get into the Las Vegas Strip market might be a merger with MGM Mirage(NYSE:MGM) or Las Vegas Sands(NYSE:LVS), purchasing Strip assets from Harrah's would be the best alternative, should the opportunity arise. That could include anything on the Strip from Harrah's to the Paris casino and resort.

Other assets in need of redevelopment that might pique Ameristar's interest: the Sheraton Tunica, the Grand Casino Biloxi, and Horseshoe Hammond (on the Indiana side of Chicagoland). The company would also have an interest in the Atlantic City market.

DevelopmentThe new hotel at Ameristar St. Charles (in greater St. Louis) is still on track for a December 2007 opening. The company expects room rates for the AAA-Four-Diamond-quality hotel to be in the upper $100s, and potentially into the $200s. Meanwhile, the opening for the hotel at Ameristar Black Hawk (near Denver) has been delayed until Q2 2009 due to "unforeseen site conditions."

The projected cost of projects at both properties has also risen by a $25 million, to $265 million (including the cost of the parking garage), in St. Louis, and by $40 million, to $220 million, in Black Hawk. Those hikes are due in part to rising materials costs, as well as upgraded design and finishes.

In addition, the $95 million expansion of the Vicksburg casino is now slated for a mid-2008 completion.

GuidanceFor the first quarter, Ameristar expects to post operating income of $44 million to $46 million, EBITDA of $68 million to $70 million, and diluted earnings of $0.34 to $0.36 per share. Management's guidance for all of 2007 follows below:

2005

2006

2007 (projected)

Operating Income

$168.7

$171.5

$176 to $184

EBITDA

$254.1

$265.4

$272 to $280

Diluted EPS

$1.16

$1.04

$1.41 to $1.49

Numbers in millions, except per-share figures.

ValuationThe valuations of casino stocks in general are on the rise, and at more than nine times 2007 EBITDA, Ameristar is no exception. That said, while it's not obviously cheap, I'm comfortable holding my shares at this price.